Japan warned over interest rates

The Japanese economy has been gaining momentum

The Japanese economy is emerging from its decade of stagnation, but the country needs to be cautious in raising interest rates, the OECD has said.

The Organisation for Economic Cooperation and Development warned the Bank of Japan to wait until prices have risen further before raising rates.

Last week the central bank raised its key interest rate from 0% to 0.25%, its first increase in nearly six years.

The OECD also said Japan's debt burden was a challenge to economic growth.

The country's government debt is forecast to rise to 775 trillion yen ($6.6 trillion; £3.6 trillion) by March 2007, about 150% of Japan's gross domestic product (GDP) - the total value of all goods and services produced within the country each year.

"Policymakers face the challenge of managing a "double-exit strategy", with monetary policy exiting from zero interest rates, while fiscal policy exits from unsustainably high budget deficits," the OECD said in its annual report on Japan's economy.

Sustained growth

The Paris-based organisation suggested that the Bank of Japan waited until consumer prices showed a 1% rate of increase before raising interest rates further.

Consumer prices rose at an annual rate of 0.6% in May, their seventh monthly gain.

The world's second-biggest economy, Japan has endured a decade of stagnating prices that depressed growth and limited any rise in the standard of living.

To combat this, the Bank of Japan slashed its interest rates to virtually zero and pumped cash into the country's financial system in an effort to boost spending and reduce the incentive to save.

Despite the challenges it still faced, the OECD report said Japan was now on course for its longest period of economic expansion since World War Two.